Construction loan monitoring, whether it be for renovations or new developments, is inherently risky. Banks, lenders, and investors want to ensure the proper handling and spending of their money.
Developers are hoping for a seamless project from start to finish. Borrowers want to know that they will be able to repay all their loans on time. And everyone is working hard to make sure the project does not hit any unexpected road bumps.
Why do banks monitor loans?
If you are working with a large bank or commercial real estate lender to finance your construction project, you will likely have to work with a bank inspector. A bank inspector’s job is to ensure the overall quality and timeliness of an investment.
Prudent construction lending depends on careful pre-closing due diligence and the careful and timely disbursement of funds during construction.
The science of construction lending is more complicated than we cover in the scope of this post, but here are some basic principles:
- Financing should be made only when it can be shown that the Owner’s budget is adequate to cover all known and unknown hard and soft costs, including an ample hard cost contingency.
- Funds should not be issued in advance or work performed or material delivered, except under special circumstances and where reasonable security is held.
Banks monitor their loans, especially their larger construction loans, to ensure the proper groups follow their schedules and budgets. If a borrower defaults, banks need to protect any rights they have to collateral or cash flow. Liens, for instance, must often be properly filed within a short time frame. By monitoring loans regularly banks protect their assets.
That is the job of bank inspectors. However, banks hire bank inspectors, and they are not required to report any of their findings to the borrowers, developers, or other investors. Since they only have to work with one party, it is not uncommon for their reports to be slightly biased, inaccurate, or incomplete.
What is construction loan monitoring?
Construction loan monitoring is an alternative option that provides a more thorough analysis from start to finish. Whether you are a borrow, lender, developer, or investor in a new construction project, construction loan monitoring can ensure the complete execution of your project.
Construction loan monitoring mitigates the risks highlighted above by providing a thorough assessment during the pre-closing stage and then tracking the project monthly. Construction loan monitors operate as an objective third party to the development project. Whereas bank inspectors only report their findings to the bank or lender, construction loan monitors will report to all parties involved in the transaction. Reporting to all parties keeps the construction loan monitor unbiased and helps everyone stay in the loop.
Construction loan monitoring also helps ensure contract administration by the owner and architect. This administration includes tracking weather delays, resolving design or construction issues promptly, overseeing payment, retainage, and close-out procedures, and assuring compliance with contractual obligations. This part of the construction loan monitor’s job helps minimize the risks of contractor default, late delivery, and substandard construction quality.
Monthly reports keep the borrower, developers, and lenders updated about the project’s status. A bank inspector may complete a monthly review, but it is often limited in time and scope. Construction loan monitoring means monitors meet with multiple project managers and contractors. Again, because they are reporting to everyone, their analysis is often more detailed and accurate. These monthly reports cover scheduling, contract and safety compliance, payment procedures, resolution of conflict or administrative issues, and hard cost budget status.
What does a construction loan monitor report?
A professional construction loan monitor will review all of the following:
- Budgeting and budget tracking
- Planning and Scheduling
- Design documents
- Cost estimates and contractor/subcontractor bids
- Draw request scheduling
- Monthly construction site visits and interviews with managers and contractors
- Construction quality and status
- Proposed and executed change orders
How draws work on a construction loan
Lenders are reluctant to lend more than is required at any given time, so they set up draw schedules that detail the projected dates to release funds. A draw schedule lays out the dates for the disbursement of funds to the contractor.
In most cases, construction draws are driven by work completed and material delivered or stored. A draw schedule is only an initial projection of future disbursements. Actual fund disbursement is made only for work within a certain payment period.
A construction loan monitor can help set up a workable draw schedule. Their monthly reports track construction progress in terms of the percent of the work completed. Ultimately, the construction monitor ensures that funds are released in proportion to the work in place.
Who benefits from construction loan monitoring?
Construction loan monitoring is beneficial to all parties involved in the development project.
For banks, construction loan monitors can replace bank inspectors. Their detailed reports assure the banks that they need to proceed with financing. Everyone is privy to the monitor’s reports and analysis. These reports keep everyone accountable and in compliance with their respective duties.
The construction loan monitor will attend monthly meetings with the owner, developer, and contractors to do proper construction loan monitoring. As a neutral party, construction loan monitors openly and honestly report quality, compliance, scheduling, budgeting, and accountability issues. If things go unexpectedly during the project, professional monitors can offer their advice on how to proceed. Since their interest in the project does not blind them, they can advise on conflict resolution, building solutions, and advancements in technology.
If you’re ready to have an expert construction consultant analyze your site, contact us here.